Question

A firm with a 14% WACC is evaluating two projects for this year's capital budget. After-tax cash flows, including depreciation, are as follows: 1 1 2 3 4 5 Project M Project N -$18,000 $6,000 $6,000 $6,000 $6,000 $6,000 -$54,000 $16,800 $16,800 $16,800 $16,800 $16,800

Answer 1

Answer a.

Project M:

Cumulative Discounted Cash Cash Flows PV Factor @ 14% Discounted Cash Year Flow Flow -18,000.00 $ 5,263.20 $ 4,617.00 $ 4,050.00 $ 3,552.60 $ 3,116.40 $ 1.0000 $ -18,000.00 -18,000.00 0.8772 $ 0.7695 $ 6,000.00 1 -12,736.80 $ 2 6,000.00 6,000.00 -8,119.80 0.6750 $ 0.5921 $ -4,069.80 3 6,000.00 -517.20 0.5194 $ 5 6,000.00 2,599.20 O st

Discounted Payback Period = 4 + $517.20 / $3,116.40
Discounted Payback Period = 4.17 years

Project N:

Cumulative Discounted Cash Cash Flows PV Factor @ 14% Discounted Cash Year Flow Flow 1.0000 $ 0.8772 $ 0.7695 $ -54,000.00 $ 14,736.96 $ 12,927.60 $ 11,340.00 $ 9,947.28 $ 8,725.92 $ $ -54,000.00 0 -54,000.00 1 16,800.00 -39,263.04 2 16,800.00 -26,335.44 0.6750 $ 3 16,800.00 -14,995.44 0.5921 $ 0.5194 $ 16,800.00 -5,048.16 16,800.00 3,677.76 5

Discounted Payback Period = 4 + $5,048.16 / $8,725.92
Discounted Payback Period = 4.58 years

Answer b.

Both projects would be accepted since discounted payback period is less than 5 years.

Answer c.

If the projects are mutually exclusive, the project with least discounted payback period should be accepted. Accept Project M.

Answer d.

The conflict between NPV and IRR occurs due to the size of the projects.